Cost Segregation Update: 5 Must-Knows for TY 2023

As the EisnerAmper team prepares for tax season, we thought it would be helpful to highlight 5 cost segregation must-knows to keep in mind. Here are the crucial points to consider for TY 2023:

1. Bonus Depreciation Rates are at 80% and Falling 

Taxpayers have been fortunate enough to enjoy 100% bonus rates since the TCJA took effect in 2018. This incentive has been a tremendous source of benefit and boosted the utility of the cost segregation study.

However, rates have dropped to 80% for TY 2023 and will drop 20% annually through 2026. It’s important to note that cost seg studies will continue to bring benefit at any bonus rate, but when possible, we encourage clients to place properties in service before end of year, to capture the higher rate of depreciation.

2. Section 179 Federal Expensing Limits Increase Again for TY 2023: 

• Overall expensing limitation $1,160,000 (up $80K from $1,080,000 in TY 2022)
• Phase out threshold $2,890,000 (up from $2,700,000 in TY 2022)

In contrast to bonus depreciation, Section 179 expensing continues to permit the immediate expense of 100% of an asset cost. Before bonus rates began to decline, both incentives were essentially equivalent. With bonus at 80% and dropping, Section 179 expensing may play a much larger role in tax planning moving forward.

Caveats: Section 179 expensing can only be taken on a trade or business, so it won’t apply to every real estate situation. Plus, the immediate benefit of Section 179 expensing is generally limited to profitable entities.

3. TPRs Remain Lucrative in Renovation Scenarios 

The Tangible Property Regulations (TPRs) have not changed lately, with attention focused on newer legislation. However, with the declining rates of bonus depreciation, the TPRs are becoming more relevant and work very well in tandem with other tax strategies.

In addition to guiding taxpayers though expense and capitalization decisions, the TPRs permit the immediate write off the remaining depreciable basis of a retired asset. This Partial Disposition Election (PAD) is a great long term tax shield; however, it must be taken in the year in which the retired asset was taken out of service.

4. Cost Segregation Growing in Popularity on Low Income Housing Tax Credit (LIHTC) Projects 

The 10 years of predictable bonus rates established by the TCJA have been a huge benefit for LIHTC investors, providing certainty in planning. Deals can be confidently modeled or underwritten, and the resulting yield will be fixed as expected – no surprise rate changes before a property is placed-in-service. Bonus depreciation on acquired assets has made this strategy even more lucrative.

Cost segregation can be performed throughout the life cycle of an LIHTC project. Many investors are having studies done while the deal is being modeled and including the results in their projections. A study can certainly be performed after acquisition or renovation as well.

5. 1031 Exchanges and 754 Step-Ups have Inherent Cost Segregation Potential 

The 754 step-up is notoriously complicated, and it’s easy to overlook the inherent cost seg potential while dealing with all the moving parts. It’s important to remember that the new basis and service date seen in a step-up may tee up an excellent cost seg opportunity.

Similarly, changes in the TCJA have created a climate in which 1031 Exchanges and Cost Segregation are often employed simultaneously. The use of Cost Segregation may in fact offset the potential tax liability generated by the exclusion of personal property from a 1031 exchange.